Ho, hum — as the old-time civil servants used to say at the end of the day when punching out their time cards — “another day, another dollar.” And not to compare government work to the vagaries of investing in the stock market, the Dow Jones Industrial Average has now set consecutive record closing highs for the past five straight trading sessions since last week’s “Market Maven” column, almost as if higher stock prices are something that is to be expected.
At Monday’s close, both the Dow and the S&P had risen for seven straight days, and last Friday was the 10th-straight Friday that the Dow has advanced this year, namely on every last day of the trading week. And half the gains that the Dow has made in 2013 have taken place on these 10 Fridays. In addition, last week was the first one since September 2011 that the Dow has advanced on all five trading days.
It should also be noted that the S&P has now advanced in nine out of the past 10 weeks and all the major indexes produced their largest weekly gains last week since the first week of the year. The Dow is now ahead by 10 percent this year, the S&P has gained nine percent and the Nasdaq is higher by eight percent. Just to illustrate how potentially overbought the market might be getting, more than 80 percent of S&P stocks are trading above their 50-day moving averages.
And to illustrate how broad-based this rally has been, the Dow Industrials were joined at best-ever levels last week by the Dow Transports, the Russell 2000 Index of small stocks and by the mid-cap indexes as well.
And day after higher day, the same set of explanations are put forward to justify this historic advance, and they are that the Federal Reserve and other central banks have flooded the system with money in order to keep interest rates at historically low levels, and this has forced investors into riskier assets such as equities because a person gets virtually nothing on a fixed-income, bond-type of instrument. Other explanations include the fact that fourth-quarter earnings were much better than expected, the economy continues to show improvement and that companies are sitting on record amounts of cash that can be used for dividend increases, potential buyback of stock and acquisitions of other companies such as we have already seen this year.
As far as earnings are concerned, at the prior October 2007 high in the Dow, the price/earnings multiple was 17 and for the S&P it was 17.5. Today it is 15.9 for the Dow and 13.9 for the S&P assuming that profits for the latter are going to be $111 this year. The bullish argument is that the market is still undervalued at current levels and the bearish one is that investors do not have faith in earnings expansion, which is why the multiples are lower this time. One also has to take into account the record low levels of interest rates at the present time in calculating why the price/earnings multiples are lower now as well, because stocks do compete with bonds for investor participation.
Economic reports this past week were also put forth as reasons to justify the stock market grinding to higher and higher levels, as the February ISM Non-Manufacturing Survey, which covers more than 80 percent of the economy, grew at the fastest pace in a year as the export component rose to its highest level since May, 2007. The Fed Beige Book, its latest report on economic conditions in various regions of the country, said that the economy grew at a moderate pace amid rising consumer demand for homes and automobiles. Weekly jobless claims fell to a six-week low and the four-week moving average declined to its lowest level since March 2008. Finally, the February non-farm payrolls report came in much better than expected.
The report showed that employers added a greater than predicted 236,000 workers to their payrolls and the jobless rate fell to a four-year low. This showed that the economy was gaining momentum despite the headwinds from higher payroll taxes and the federal government sequestration cuts. The unemployment rate declined to 7.7 percent, the lowest since December 2008, and this was a combination of actual gains in employment in addition to people leaving the labor force. Construction jobs increased by the most since March 2007 and the length of the workweek rose as well. Manufacturing, factory, health-care and social services jobs increased also.
This means that job gains averaged 195,000 per month for the last three months, still short of the 250,000 a month needed to really take a bite out of the unemployment rate, but it appears as if the number is going in the right direction, and the stock market obviously liked what it saw.
Financial stocks, which have been one of the strongest performing groups this year, got a boost from the so-called “stress tests” administered by the Federal Reserve, which pronounced that the largest U.S. banks have enough capital to withstand a severe economic downturn. Banks’ efforts to boost their capital since the 2008–2009 financial crisis helped all 18 participating banks except one meet the minimum hurdle of a five percent buffer against the so-called “stress.”
The tests give regulators a look into how the banking sector would respond to a severe economic downturn and the banks that were subject to these tests represent over 70 percent of total bank holding company assets in the country. As a result, the Fed announced that “The nation’s largest bank holding companies are collectively in a much stronger capital position than before the financial crisis.” Of the four largest U.S. banks, BAC, WFC and C all saw improvements in their minimum Tier 1 capital ratios compared to last year’s test and JPM held steady. C had the highest ratio of the top four at 8.3 percent.
What might finally stop the upside momentum of the stock market is the fact that the volatility index, otherwise known as the VIX, which moves in the opposite direction of equities themselves, declined this past Monday to its lowest level since February 2007 at 11.56. History has shown that it cannot stay slightly below 10 for any length of time, so that perhaps if this indicator keeps declining as stocks keep rising, then a near-term market top could be established and investors might want to use any such setbacks as an opportunity to enter into or add to existing positions.
Donald Selkin is the Chief Market Strategist at National Securities in New York, a veteran in the securities industry for 36 years who is widely quoted in the financial media.
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